Nasdaq 100 Is One Big Rally From Putting the Selloff Behind It

(Bloomberg) -- Whatever word you use to describe the shape of the recovery in the economy, for the country's dominant technology stocks, spell it with a V.

Up an average of 0.6% a day since bottoming in March, the Nasdaq 100 would need to rise twice that to jump above the record it set before the pandemic selloff began. More than forty of its members are already higher than their level on Feb. 19, including 10 that have managed to surge at least 20%.

No fact of the crisis-era stock market is more startling or capable of provoking as much skepticism, though weeks of derisive commentary have done nothing to slow the advance. Flush with cash and safe from insolvency, built for a stay-at-home world and streamlined with algorithms and automation, companies including Microsoft Corp. and Amazon.com Inc. have hauled the Nasdaq 100 up 37% since the March bottom.

“The tech rally shows the resilience of certain companies and their ingenuity,” said Bryce Doty, senior portfolio manager at Sit Investment Associates. “Most companies are being valued on sustainability, who has the resources and the cash to survive the daily cash burn the longest. Thank God we have such a strong tech sector to at least have some good news to talk about.”

The advance is regarded with either awe or ridicule, considering the economic backdrop. Though the collapse in the U.S. has decelerated slightly as more states and businesses start to re-open, most economists still predict a deep contraction. And while restrictions are loosening and most economic figures are showing steady improvements, many economists fear a second wave of outbreaks or potential shutterings could reset the clock on progress already made.

At the same time, it makes sense that solvency-obsessed investors have fixed their sights on tech behemoths within the new normal -- with the expectation those companies will remain profitable throughout the downturn. The rush toward tech stocks has been so extensive it's pushed Invesco's QQQ ETF, which tracks the Nasdaq 100, to a $100 billion market value, a breakthrough so rare it may take three or more years before another fund joins the club, according to CFRA's Todd Rosenbluth.

The tendency of a small subset of high-growth, high-margin companies to trade at sky-high earnings multiples has been in place for 30 years and largely explains the broader-market's elevated price-earnings ratio over the period, research by Leuthold Group shows. Average valuations for three-quarters of U.S.-listed stocks have barely budged since World War II, while multiples for the top 25% have surged 46%, the firm said in a note Monday.

“It's like tech versus the world,” Mike Dowdall, a portfolio manager at BMO Global Asset Management, which oversees $273 billion, said by phone. “People are going to pay up for growth.”

While earnings for tech companies in the S&P 500 Index are expected to shrink in the second and third quarters, they're projected to start increasing again in the fourth and return to a double-digit growth clip in the first quarter of 2021, according to data compiled by Bloomberg Intelligence.

Amazon, the best performing of the biggest technology companies this year, has benefited from a surge in sales with many consumers fearful of venturing into brick-and-mortar stores. While higher coronavirus-related expenses are expected to weigh on profits in the current quarter, investors are betting that profits will jump down the road.

Microsoft, whose shares have gained 16% in 2020, has seen demand for its web-based software and cloud services surge from people working from home. On an adjusted basis, the technology giant will earn more in the current quarter than it did in the same period a year ago, according to the average of analyst estimates.

“It's pretty clear who the winners are and it's pretty clear who the losers are,” said Jeff Mills, chief investment officer for Bryn Mawr Trust. “You have these companies that are less cyclical, their businesses are less impacted by what is going on and investors continue to flock to those stocks.”

Gains haven't been dispensed evenly -- though it's close. The Nasdaq 100 Equal Weighted Index -- in which Netflix Inc. counts as much as Expedia Group Inc. -- is 3.6% away from its February highs.

The group's biggest threat may come from outside the economy. Regulators are again circling around tech giants looking for antitrust issues, with many arguing that should they get bigger, that scrutiny could intensify.

BMO's Dowdall sees it as an ongoing long-term issue for tech firms given that policy makers from both sides of the aisle have pushed for greater scrutiny.

“This is definitely a bipartisan issue,” he said. “From that standpoint, it's going to make the business models for a lot of these companies more expensive to execute.”